The past year has been brutal for investors in Medical Properties Trust (MPW -1.51%). The healthcare REIT's stock has plummeted by 60%. That has driven its dividend yield up to an eye-popping 15.4%.
A yield that high is a warning sign that investors don't think it's sustainable. While the REIT could reduce its dividend, I plan to continue holding.
A portfolio of sickly tenants
Medical Properties Trust has faced several issues over the past year. The biggest is a problem with its rent roll. Several of its tenants are facing financial challenges. That's causing concerns that they might not be able to pay rent.
The most problematic tenant at the moment is Prospect Medical Holdings. That company's Pennsylvania hospitals have been underperforming for a while. Conditions have reached the point where Medical Properties Trust had to take a $171 million real estate impairment related to the four Pennsylvania properties it leases to Prospect. The healthcare REIT also wrote off about $112 million of unbilled rent due from Prospect.
As a result of those and other issues, Medical Properties Trust expects its normalized funds from operations (FFO) to be in the range of $1.50 to $1.65 per share this year. That's down from $1.82 per share last year and a $1.71 per share run-rate at the end of the year following a series of asset sales.
The low end of that estimate represents a worst-case scenario where the company doesn't collect any rent from Prospect. Meanwhile, the high-end is its base case that it recognizes most of the rent from that company's California and Connecticut properties but none from its Pennsylvania investments.
Why I'm not overly concerned
The company's issues with Prospect and other tenants will impact its cash flow in the near term. However, it has enough of a cushion to absorb this blow. Furthermore, the company should ultimately recover most, if not all, of its investment and rental income.
Its finances are relatively healthy
Even at the low end of its outlook, Medical Properties Trust would generate enough cash flow to cover its dividend. Its dividend payout ratio would be about 90%. While that's not ideal, the company can maintain its dividend. However, that doesn't mean it will, nor that it should. The REIT might be better off in the long run if it reduced its payout. That would allow it to retain more cash for debt reduction or to make accretive investments.
Further, it has adequate liquidity to get through the current rough patch. While $483.3 million of debt matures this year, it has the money to repay that debt if it can't refinance at an attractive rate. The company entered the year with $235 million in cash and received a $205 million loan repayment last month. Meanwhile, it has a deal to sell Prospect's Connecticut hospitals for $457 million that should close by mid-year.
The Prospect investment should make a full recovery
While Medical Properties Trust might not collect much, if any, rent from Prospect this year, it should eventually receive those payments. That's because Medical Properties Trust structured its leases with Prospect to provide it with multiple layers of protection. One of the biggest is a security interest in that company's managed care business, which independent third parties have valued at around $1 billion. There is sufficient collateral in that business and the company's other assets for Medical Properties Trust to realize a full return of its investment in the Pennsylvania properties, including any deferred rent.
However, the initial focus is for Prospect to return its Pennsylvania operations to profitability, which could take 12 to 18 months. That would enable the company to sell that business and repay Medical Properties Trust. It would also allow Medical Properties Trust to exit its investment in those properties at full value. That would give it additional cash that it could reinvest into better opportunities.
While 2023 will be a challenging year, better days lie ahead
Medical Properties Trust is facing some big challenges right now. However, I believe the company will eventually get its finances and portfolio back on solid ground. While that will take some time, and the current dividend rate might not survive, I have no plans to give up on the company. Instead, I intend to continue accumulating shares on the belief that the stock will eventually experience a full recovery once the REIT resolves its Prospect problems.
